Buckingham Attorney and Taxation Practice Group Chair Rich Fry was featured in an article that appeared in the July 2023 issue of Smart Business, written by Adam Burroughs.

The employee retention credit (ERC) was a program that the federal government enacted to incentivize businesses to keep employees on the payroll through pandemic disruptions and compensate for government-mandated modifications to business operations related to the pandemic.

Businesses are eligible for the credit if they had a significant reduction in sales or gross receipts when compared to 2019 for the same quarter, or if business operations were negatively affected by government orders related to the COVID pandemic.

“The ERC has gotten more attention lately because of substantial refunds available to employers, which has opened the door to less-than-reputable advisory firms encouraging businesses to claim these credits based upon tenuous, or even fraudulent, grounds,” says Richard B. Fry III, Taxation Group Chair at Buckingham, Doolittle & Burroughs, LLC. “Employers must be cautious of firms offering to help them claim ERCs in exchange for a contingency fee without specific support for their eligibility. Otherwise, businesses claiming the credits will be at risk of paying back the refunds received, plus interest and penalties, if audited by the IRS, which is now occurring with more frequency.”

Smart Business spoke with Fry about the ERC, how businesses qualify, and the risk to businesses of an erroneous filing.

WHAT QUALIFIES A BUSINESS FOR THE ERC?

Employers may be eligible for ERCs on a quarterly basis from the second quarter of 2020 through the third quarter of 2021. A business is eligible for ERCs if its gross receipts or sales in a calendar quarter declined by at least 50 percent in 2020 or at least 20 percent in 2021 compared to the same quarter in 2019.

It is more difficult to determine whether a business qualifies for ERCs based upon a partial suspension of business operations during the COVID pandemic. In this case, the business would need to demonstrate that, for a certain period, it was negatively impacted by a change in the way it operated that was required by a government order.

To prove that they were negatively impacted by government orders, companies may rely upon their internal communications — updates to business policies that were circulated, dictating the changes necessary to comply with government orders.

HOW IS THE IRS RAMPING UP EFFORTS TO EXAMINE ERC CLAIMS?

The IRS has been granting ERCs claimed by employers and issuing refunds when filed, but are now ramping up its ERC audits. In fact, the IRS has warned taxpayers about improper positions being promoted by advisory firms and is aware that many employers have claimed ERCs based upon questionable grounds. If audited, the business will be required to provide supporting documentation to substantiate ERC eligibility and the amount claimed.

Businesses that made a good faith, reasonable claim may get audited and, if it’s ultimately determined the business does not qualify, may have to pay back the credit plus interest. If the business is unable to establish a good faith or reasonable basis for its claims, then it will likely face the 20 percent accuracy penalty. If the company knowingly misrepresented the facts when claiming the credit, the IRS may impose the 75 percent fraud penalty. Importantly, the advisory firms that helped or encouraged the business to claim ERCs are not responsible for any of the interest or penalties the business would owe the IRS.

WHAT SHOULD BUSINESSES LOOK FOR WHEN CONSIDERING THE ERC?

Companies should be skeptical when advised to claim credits for the third quarter of 2021 based upon a partial suspension of its operations. Most state orders restricting business activity and travel had been lifted by then, so it’s difficult to connect business disruptions to specific government orders.

Businesses must also be mindful of where they get their advice, and particularly skeptical if they are advised to claim ERCs based upon generalized industry disruptions that are not linked to their specific business, supply chain delays, or government recommendations. And even though these aggressive advisory firms will likely agree to defend a business that gets audited in the future, they may not be around to see that promise through.